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Moral Hazard and Persistence

Author Info

  • Hugo Hopenhayn
  • Arantxa Jarque

Abstract

We study a multiperiod principal-agent problem with moral hazard in which the agent is required to exert effort only in the initial period of the contract. The effort choice of the agent in this first period determines the conditional distribution of output in the following periods. The paper characterizes the optimal compensation scheme. We find that the results for the static moral hazard problem extend to this setting: consumption at each point in time is ranked according to the likelihood ratio of the corresponding history. As the length of the contract increases, the cost of implementing effort decreases, and consumption on the equilibrium path becomes less volatile. If the contract lasts for an infinite number of periods, assuming the effect of effort does not depreciate with time, the cost of the principal gets arbitrarily close to that of the first best

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Paper provided by Society for Economic Dynamics in its series 2006 Meeting Papers with number 670.

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Date of creation: 03 Dec 2006
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Handle: RePEc:red:sed006:670
Contact details of provider: Postal: Society for Economic Dynamics Christian Zimmermann Economic Research Federal Reserve Bank of St. Louis PO Box 442 St. Louis MO 63166-0442 USA
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Keywords: mechanism design; moral hazard; persistence; dynamic contracts;

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Find related papers by JEL classification:
  • D31 - Microeconomics - - Distribution - - - Personal Income and Wealth Distribution
  • D80 - Microeconomics - - Information, Knowledge, and Uncertainty - - - General
  • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design

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  1. Sanford J Grossman & Oliver D Hart, 2001. "An Analysis of the Principal-Agent Problem," Levine's Working Paper Archive 391749000000000339, David K. Levine.
  2. Shavell, Steven & Weiss, Laurence, 1979. "The Optimal Payment of Unemployment Insurance Benefits over Time," Journal of Political Economy, University of Chicago Press, vol. 87(6), pages 1347-62, December.
  3. Atkeson, Andrew, 1991. "International Lending with Moral Hazard and Risk of Repudiation," Econometrica, Econometric Society, vol. 59(4), pages 1069-89, July.
  4. Arantxa Jarque, 2005. "Repeated Moral Hazard with Effort Persistence," 2005 Meeting Papers 428, Society for Economic Dynamics.
  5. Toshihiko Mukoyama & Ayşegül Şahin, 2005. "Repeated moral hazard with persistence," Economic Theory, Springer, vol. 25(4), pages 831-854, 06.
  6. Ana Fernandes & Christopher Phelan, 1999. "A recursive formulation for repeated agency with history dependence," Staff Report 259, Federal Reserve Bank of Minneapolis.
  7. Rogerson, William P, 1985. "Repeated Moral Hazard," Econometrica, Econometric Society, vol. 53(1), pages 69-76, January.
  8. Grochulski, Borys & Piskorski, Tomasz, 2010. "Risky human capital and deferred capital income taxation," Journal of Economic Theory, Elsevier, vol. 145(3), pages 908-943, May.
  9. Kim, Son Ku, 1995. "Efficiency of an Information System in an Agency Model," Econometrica, Econometric Society, vol. 63(1), pages 89-102, January.
  10. Rui Albuquerque & Hugo Hopenhayn, 2002. "Optimal Lending Contracts and Firm Dynamics," RCER Working Papers 493, University of Rochester - Center for Economic Research (RCER).
  11. Phelan Christopher, 1995. "Repeated Moral Hazard and One-Sided Commitment," Journal of Economic Theory, Elsevier, vol. 66(2), pages 488-506, August.
  12. Wang, Cheng, 1997. "Incentives, CEO Compensation, and Shareholder Wealth in a Dynamic Agency Model," Journal of Economic Theory, Elsevier, vol. 76(1), pages 72-105, September.
  13. Illoong Kwon, 2006. "Incentives, wages, and promotions: theory and evidence," RAND Journal of Economics, RAND Corporation, vol. 37(1), pages 100-120, 03.
  14. Hopenhayn, Hugo A & Nicolini, Juan Pablo, 1997. "Optimal Unemployment Insurance," Journal of Political Economy, University of Chicago Press, vol. 105(2), pages 412-38, April.
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Cited by:

  1. Jovanovic, Boyan & Prat, Julien, 2010. "Dynamic Incentive Contracts under Parameter Uncertainty," CEPR Discussion Papers 8136, C.E.P.R. Discussion Papers.
  2. Jacek Rothert, 2009. "Monitoring, Moral Hazard and Turnover," Department of Economics Working Papers 130124, The University of Texas at Austin, Department of Economics, revised Sep 2012.

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